Why does a central bank’s announcement about next year’s interest rates move prices and wages today? It sounds technical but it is at the heart of this year’s economics Nobel prize. Robert Hall and Michael Woodford were honoured “for microeconomic foundations of macroeconomic stabilisation”. It’s a long phrase but the idea behind it is simple, to steer an economy you must first understand the choices of people inside it. Macroeconomic theory has long grappled with the challenge of explaining how individual economic decisions translate into economy-wide outcomes.

It focuses on aggregate variables such as national output, inflation and unemployment. Microeconomics examines how households and firms make decisions about consumption, saving, investment and pricing. The central challenge has been to establish a clear connection between these two levels of analysis, showing how individual choices collectively shape economic performance and how broader economic conditions, in turn, influence those choices. So, the laureates fill the gap between macroeconomic foundations and microeconomic behaviour.

As the Nobel announcement said: “A key element of their models is that households and businesses are forward looking when they decide about savings or product prices. Whether a household decides to buy a home or a firm thinks about raising prices both decisions depend on expectations about the future state of the economy.” If policymakers can influence these expectations, then they have an important tool for shaping economic behaviour and outcomes. Hall’s contribution was to ground macroeconomic theory in the decision-making processes of households and workers: how expectations and choices by them shape aggregate consumption, employment and economic activity.

His early work on consumption showed that forward looking households adjust their spending primarily in response to unexpected changes in income; predictable changes........

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